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1
Introduction: How Climate and
Competitiveness Fit Together
The Senate strongly believes that the proposals under negotiation, because of the disparity
of treatment between Annex I Parties and Developing Countries and the level of required
emission reductions, could result in serious harm to the United States economy, including
significant job loss, trade disadvantages, increased energy and consumer costs. . . .
— Byrd-Hagel Resolution (S Res 98), July 1997
During the final year of climate negotiations leading up to the signing of
the Kyoto Protocol in December 1997, the US Senate, on a vote of 95–0,
unanimously passed the Byrd-Hagel resolution—sponsored by Senators
Robert Byrd (D-WV) and Chuck Hagel (R-NE)—voicing concern that a
US commitment to cap greenhouse gas emissions would be unfair and
ineffective unless developing countries took similar steps. The sense of
the Senate instructed the US administration not to sign onto the protocol
unless it mandated “new specific scheduled commitments to limit or reduce greenhouse gas emissions for Developing Country Parties within
the same compliance period.” The agreement that emerged from Kyoto
did not meet that test and was never submitted to the US Senate for
ratification.
In the decade since the Kyoto Protocol was signed, attitudes toward climate change in the United States have shifted dramatically. The Fourth
Assessment Report from the Intergovernmental Panel on Climate Change
(IPCC), released in 2007, brought a new sense of certainty that the Earth’s
temperature is warming as a result of human activity. Discussion in the
press, through documentary film and by advocacy groups, has expanded
public awareness of the policy challenge global climate change presents.
In state houses around the country, legislators have begun tackling those
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policy issues at a local level, and strong popular support for nationwide
action has prompted dozens of hearings in both the House of Representatives and Senate. Yet as the US Congress starts drafting federal climate
legislation, many of the same concerns raised about the Kyoto Protocol
are still front and center in the policy debate. Specifically,
䡲 concern that a climate regime that omits greenhouse gas emissions
caps on some large emitters will be environmentally ineffective, as rapid
growth in major emerging economies will render emissions reductions in the United States irrelevant; and
䡲 concern that the US economy will suffer from the loss of investment,
market share, and jobs in industrial sectors sensitive to the additional
cost of reducing carbon emissions.
Progress made in international climate negotiations suggests that postKyoto agreements (to take effect in 2013) will ask more of developing
countries than the Kyoto Protocol did. Yet commitments will likely vary
considerably by country, given differences in levels of economic development, political conditions, obligations stemming from historic emissions,
and responsibilities arising from future emissions. The question for US
policymakers drafting legislation today is how to address domestic concerns during a period of uncertainty about the shape of the multilateral
framework to come. Of particular concern is the effect climate policy
would have on carbon-intensive US manufacturing. Many of these industries are already under pressure from international competition, particularly large emerging economies such as China, India, and Brazil that are
not bound to reduce emissions under the current international climate
framework. As the US Congress takes up domestic climate legislation,
policymakers are looking for ways to avoid putting US carbon-intensive
manufacturing at a competitive disadvantage vis-à-vis countries without
similar climate policy, lest a decline in industrial emissions at home is simply replaced by increases in emissions abroad.
In considering measures to level the playing field for carbon-intensive
US manufacturing industries under a domestic climate regime, policymakers seek to (1) prevent a decline in output by US producers in the face
of higher costs, (2) guard against “emissions leakage” (migration of US industrial emissions to other parts of the world) from a loss of market share
to more carbon-intensive foreign producers, and (3) create incentives for
other countries to reduce emissions. This book evaluates the effectiveness
of a wide range of policy options in achieving these goals as well as their
impact on other industries, the overall environmental effectiveness and
economic efficiency of domestic climate policy, and the prospects for reducing emissions internationally.
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Figure 1.1 Manufacturing’s declining role in the United States,
1948–2005
percent
35
trillions of real US dollars
2.1
30
1.8
Output
(share of US GDP)
25
1.5
20
1.2
15
0.9
Output
(trillions of real US dollars)
10
Employment
(share of national total)
0.6
05
02
20
99
20
96
19
93
19
90
19
87
19
84
19
81
19
78
19
75
19
72
19
66
19
63
19
60
19
19
19
19
19
19
57
0.0
54
0
51
0.3
48
5
Sources: US Department of Commerce, Bureau of Economic Analysis, Industry Economic Accounts,
2007; US Department of Labor, Bureau of Labor Statistics, Current Employment Statistics Survey,
2007.
Background
Several recent studies have attempted to quantify the impact of various
US climate policy scenarios on the US economy. Estimates of the change
in overall economic output in 2030 range between 0.5 percent above and
1.5 percent below the projected baseline, depending on how the policy is
designed (Paltsev et al. 2007; EIA 2007a, 2007b; Murray and Ross 2007;
Aldy 2007). The cost incurred by assigning a price to greenhouse gas
emissions will not be distributed evenly, and policymakers are concerned
that the manufacturing sector will be particularly hard hit.
Manufacturing contributed $1.5 trillion to the $12.5 trillion in total US
GDP in 2005. While in absolute terms, manufacturing-sector output expanded by 50 percent over the past three decades, its growth was much
slower than that of the economy as a whole. As a result, the manufacturing sector’s share of US GDP has declined since 1975, from 23.3 to 12.1
percent in 2005 (figure 1.1). Employment in manufacturing has seen both
a relative and absolute decline, with the sector shedding 5 million jobs
since the late 1970s. The past decade has been particularly rough on US
manufacturing, with overall output stagnating and employment falling
by 17 percent while nationwide GDP and employment have grown by 37
and 14 percent, respectively.
INTRODUCTION
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Figure 1.2 US trade deficit and China’s share, 1976–2006
US trade deficit (billions of US dollars)
share of US trade deficit (percent)
1,000
30
900
25
800
20
700
600
China’s share
of US trade deficit
(right axis)
500
15
10
400
With other
countries
300
200
5
0
100
With
China
0
–5
–10
06
20
04
02
20
00
20
20
98
96
19
94
19
92
19
90
19
19
88
86
19
84
19
82
19
80
19
78
19
19
19
76
100
Source: United Nations Comtrade database, 2007.
The expansion of international trade looms large in the public discourse
on the fate of American manufacturing. While trade liberalization has
added between $800 billion and $1.5 trillion to the US economy as a
whole, it has also put domestic industries under increased pressure from
overseas competition (Bergsten and the Institute for International Economics 2005). And while technological change may have contributed
more to the decline in manufacturing employment in recent years, an expanding US trade deficit is a very visible and politically powerful symbol
of the difficulties facing American producers. Of particular concern to US
manufacturers is the competitive challenge presented by Asia, in particular China. The US-China bilateral trade deficit has grown from $40 billion
to $250 billion over the past decade (figure 1.2), prompting congressional
hearings, new legislation, and trade complaints lodged both domestically
and with the World Trade Organization (WTO).
The climate debate is taking place against this backdrop of heightened
anxiety over globalization in general and US-China trade in particular.
While there is growing support for US federal climate policy, a number
of manufacturing companies and industrial unions have expressed concern that such policy could disadvantage American producers vis-à-vis
foreign competition and put further strain on industries already under
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significant cost pressure.1 In addition, the largest source of anxiety for
American manufacturers—China—now rivals the United States as the
world’s largest source of annual carbon dioxide (CO2) emissions. And
while the majority of the emissions added to the atmosphere over the past
century came from the industrialized world, the United States in particular, over the next century the majority will come from the developing
world, China in particular. If the developed world acts alone, US policymakers fear that their industry, and the corresponding emissions, may
just pack up and relocate to countries with lower carbon costs, thus undermining the policy’s effectiveness.
In response to these concerns, many policy proposals currently being
considered attempt to level the playing field for those manufacturing industries particularly vulnerable to cost increases that would result from
reducing greenhouse gas emissions, by either lowering costs for domestic
producers or raising costs for foreign producers.
Identifying Vulnerable Industries
Before discussing the policy options for addressing competitiveness and
emissions leakage, it is important to clarify which industries in the United
States are most vulnerable. To date, analysis on this point has been fairly
limited. Charging firms for the CO2 they emit through a carbon tax or limiting the total allowable emissions through a cap-and-trade system will
increase the price of carbon-intensive energy. (For an overview of these
two approaches to domestic climate policy, see box 1.1.) The degree to
which increased energy costs translate into a decline in industrial output
and employment depends on four variables:
1. energy intensity of production: The impact of rising energy prices on a
given firm is determined, in part, by how significant energy is as a
share of total production costs. For relatively energy-intensive industries like steel and cement, energy purchases account for between 10
and 20 percent of total costs, while for transportation equipment (e.g.,
cars and trucks) and electronics manufacturing, energy accounts for
less than 1 percent (table 1.1).
2. potential for efficiency improvement: The extent to which increased energy
prices translate into higher overall production costs is determined by
the firm’s ability to improve the energy efficiency of production through
technological improvement.
1. Andrew G. Sharkey III, American Iron and Steel Institute, statement before the Environment and Public Works Committee, US Senate, November 13, 2007; Robert C. Baugh, executive director AFL-CIO Industrial Union Council and chair, AFL-CIO Energy Task Force, testimony before the Environment and Public Works Committee, US Senate, November 13, 2007.
INTRODUCTION
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Box 1.1
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Carbon tax versus cap and trade
When considering limitations on greenhouse gas emissions, policymakers have
typically focused on two market-based regulatory mechanisms: taxes and caps
with trading.
A carbon tax directly associates a price to the carbon content of fossil fuels—
coal, petroleum products, and natural gas—used for electricity generation, transportation, residential and commercial space heating, industrial processes, and
other activities. A carbon tax makes carbon-intensive activities and consumption
more expensive, encouraging behavioral changes such as fuel switching, reduced
consumption, and infrastructure investments in low-carbon technologies. Taxing
negative externalities, generally preferred by economists, addresses emissions
throughout the entire economy. As a result, a tax incentivizes the most costeffective reductions available in every sector while minimizing regulatory involvement. Moreover, it provides some economic certainty for industry regarding the
cost of the program, as the price of carbon is clearly set at the outset. Economic
certainty, however, comes at the expense of environmental certainty: It is unknown how much carbon mitigation will take place at a fixed price. Finally, as it
generates revenue for government, a carbon tax helps reduce the tax burden on
“goods” such as employment and income, increasing overall economic efficiency.
For instance, the United Kingdom’s climate change levy is offset against employer
taxes on labor, thus lowering the marginal cost of employment.
Another approach is for the government to set a target emissions level (cap) and
allow firms to buy and sell (trade) permits under this cap. The government issues
pollution permits corresponding to the cap through either free allocation or auction. In comparison to a tax, a cap provides greater environmental certainty, as the
government sets the allowed level of greenhouse gas emissions. Conversely, there
is less price certainty: Allowance prices are set by the market and fluctuate in line
with demand for permits. Initially employed in the United States to reduce sulfur
dioxide emissions, such a regulatory approach to carbon mitigation is currently in
place in Europe, where the EU Emissions Trading Scheme began in 2005. Where allowances are auctioned, revenue can accrue to the government or can be earmarked to particular expenditures or tax cuts, as with a carbon tax. Where they are
allocated for free, increased costs tend to lead to windfall profits in the power sector, as shown by the European Union’s experience.
These approaches are not incompatible. A number of countries, particularly in
Europe, use both carbon taxes and cap and trade.
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Table 1.1
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Manufacturing-sector energy demand by industry, 2002
Industry
Food and beverage
Textiles
Apparel
Wood products
Paper
Pulp mills
Paper mills, except newsprint
Newsprint mills
Paperboard mills
Printing
Petroleum refineries
Chemicals
Petrochemicals
Alkalies and chlorine
Carbon black
Other inorganic chemicals
Basic organic chemicals
Plastic materials and resins
Nitrogenous fertilizers
Pharmaceuticals and medicines
Nonmetallic mineral products
Glass
Cement
Lime
Ferrous metals
Iron and steel mills
Iron foundries
Nonferrous metals
Primary aluminum smelters
Aluminum foundries
Other nonferrous metals
Fabricated metal products
Machinery
Computers and electronics
Electrical equipment
Transportation equipment
Furniture and related products
Share of total
manufacturing
energy demand
(percent)
Energy costs
as share
of value
(percent)
Energy costs
per employee
(US dollars)
5.42
1.18
0.16
1.66
10.43
1.49
2.40
1.01
1.66
7.27
21.73
9.74
18.89
17.30
1.38
7.39
4.28
12.39
31.79
15.50
6.87
11.47
7.16
19.19
0.66
5.45
6.06
16.58
23.23
8.81
11.62
6.44
4.79
19.83
3.51
2.87
1.77
0.80
0.46
0.68
0.60
0.79
5,324
4,747
1,202
2,930
24,082
95,881
45,037
90,430
76,458
1,914
231,865
24,268
268,881
146,205
84,495
24,396
67,194
43,962
152,334
4,356
11,347
12,255
71,296
57,016
30,039
47,207
10,237
13,570
83,222
6,074
9,598
2,685
1,792
1,304
1,445
2,396
1,003
0.43
28.20
28.52
4.67
6.47
2.72
1.71
0.78
0.89
0.76
1.89
0.28
Source: US Department of Energy, Energy Information Administration, Manufacturing Energy
Consumption Survey, 2002.
INTRODUCTION
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3. ability to switch to low-carbon energy sources: In addition to reducing the
amount of energy required per unit of output, firms can also reduce
carbon costs by switching to less carbon-intensive fuel sources.
4. product demand elasticity: The degree to which energy price increases
not mitigated through efficiency improvements or fuel switching affect
performance of a given industry is determined by the firm’s ability to
pass along costs to consumers. The “demand elasticity” of a given
product to changes in price depends on the availability of substitutes—
either the same good from a foreign producer or a different but interchangeable good from any producer.
The relative importance of these factors in determining the fate of an industry relies a great deal on timing. In the short term, most firms have
limited ability to improve the efficiency of capital stock or switch to alternative sources of energy. How much of the energy cost increase the firm
must absorb then depends on the immediate availability of substitutes for
the firm’s products. Over the medium and long terms, firms have greater
ability to seek out lower-carbon fuel sources and develop more energyefficient technology.
Figure 1.3 provides a rough layout of the exposure to increased carbon
costs among manufacturing industries based on two of the four variables
listed above. On the X-axis we rank the energy intensity of production in
terms of energy costs relative to final sales value. The Y-axis shows the degree to which foreign substitutes are available in the market (measured in
terms of imports as a share of consumption), which has direct bearing on domestic firms’ ability to pass increased costs on to consumers. In chapter 3, we
analyze where these imports come from and how carbon-intensive foreign
production relative to US production is for each industry. The size of the
bubbles indicates total CO2 emissions from the industry grouping in 2002.
At the broadest level of industry classification, the six most energyintensive US manufacturing industries are petroleum refining, paper and
pulp, nonmetallic mineral products, chemicals, and ferrous and nonferrous metals. On average, these capital-intensive industries are less exposed to international trade than their labor-intensive peers like apparel,
electronics, textiles, furniture, and machinery. That said, there are notable
differences among the six: Imports account for more than 40 percent of demand for nonferrous metals, like aluminum and copper, significantly
higher than the 13 to 15 percent import dependency in paper, with steel
and chemicals in between at 23 and 22 percent, respectively. Even nonmetal mineral products (e.g., cement and glass), despite high weight-tovalue ratios, are more exposed to trade than food, plastics, printed goods,
and fabricated metals. In volume terms, the United States today imports
roughly 25 percent of the cement it consumes.
This book focuses on these carbon-intensive industries, with the exception of petroleum refining, which is treated separately under most policy
8
LEVELING THE CARBON PLAYING FIELD
01--Chapter 1--1-14
Figure 1.3 US industry exposure to climate costs based on energy intensity and imports as a share of consumption
imports as a share of consumption, 2006 (percent)
80
Apparel
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70
60
10:09 AM
Electronics
50
Nonferrous
metals
Page 9
40
Machinery
Textiles
Transportation
30
Wood
products
Furniture
20
Plastics
0
1
2
3
Refining
Nonmetallic
mineral products
Food and beverage
Printing
0
Chemicals
Paper
Fabricated
metals
10
Ferrous
metals
4
5
6
7
8
9
10
US energy costs as a share of shipment value, 2002 (percent)
Note: The size of the bubbles indicates the total CO2 emissions from the industry in 2002.
9
Sources: US Department of Commerce, Bureau of Economic Analysis, Industry Economic Accounts, 2007; US Department of Energy, Energy Information Administration, Manufacturing Energy Consumption Survey 2002.
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proposals.2 Combined, they account for more than half of all CO2 emissions
from manufacturing in the United States, though a considerably smaller
share of total nationwide employment or economic output (table 1.2).
Resources for the Future (RFF) in Washington is engaged in an ongoing
effort to quantify the impact of US climate policy on output from these industries through modeling and econometric analysis (Herrnstadt et al.
2007). Two initial studies, using different approaches, find that imposing
a $10 per ton charge for CO2 in the United States, but not in other countries, would result in a 0.5 to 6 percent decline in output from the carbonintensive industries mentioned earlier. Work done in Europe on the impact of the EU Emissions Trading Scheme3 shows a slightly lower decline
in output, in part due to the use of free allocation of emissions allowances,
of 0.3 to 2.1 percent resulting from a $10 per ton price for CO2 (McKinsey
& Company and Ecofys 2006, Carbon Trust 2007, Hourcade et al. 2007).
Our study is intended to complement the quantitative work of RFF and
others with a qualitative assessment. For the five industries included in
our analysis, we evaluate various options for leveling the playing field for
domestic producers under US federal climate policy in light of the nature
of their energy needs, trends in global supply and demand, current international trade flows, and differences in the carbon intensity of production
between countries and firms.
A Broader View of Competitiveness?
It is important to note that while our discussion, as well as that of the policy community, focuses on the impact of US climate legislation on carbonintensive industries, it is a fairly narrow interpretation of US competitiveness.
If the world is indeed heading toward a carbon-constrained future, fundamental shifts within the economy to low-carbon energy technologies
2. Under a bill sponsored by Senators Joe Lieberman and John Warner, for example, importers of refined petroleum products are considered regulated entities and are responsible
for the greenhouse gasses emitted during the refining process. As such, the competitiveness
concerns facing carbon-intensive manufacturing like steel, aluminum, and cement, where
imports face no compliance costs unless a trade measure is evoked against the specific country of origin, are less relevant for the refining sector.
3. The European Union launched a cap-and-trade system known as the EU Greenhouse Gas
Emissions Trading Scheme (EU ETS) in 2005. It is aimed at reducing CO2 emissions by capping the level of emissions allowed and distributing tradable allowances to industrial emitters. It is the first of its kind and is the world’s largest multicountry, multisector greenhouse
gas emissions trading scheme. It covers over 11,500 energy-intensive installations across the
European Union, which represent close to half of Europe’s emissions of CO2. These installations include combustion plants, oil refineries, coke ovens, iron and steel plants, and factories making cement, glass, lime, brick, ceramics, pulp, and paper. For more information, see
http://ec.europa.eu/environment/climat/emission.htm (accessed March 5, 2008).
10
LEVELING THE CARBON PLAYING FIELD
US carbon-intensive industries and key products, 2005
Economic output
Employment
Million
Share of
metric tons US total
of CO2
(percent)
Million
Share of
metric tons US total
of CO2
(percent)
Share of
Billions US GDP
of dollars (percent)
Share of
Number
US total
of workers (percent)
0.62
96
1.65
36.7a
0.29
250,100
0.19
146
2.50
377
6.48
209.20
1.68
872,100
0.65
66
1.14
97
1.66
53.30
0.43
505,300
0.38
15
0.25
75
1.29
24.4a
0.20
144,200
0.11
64
1.11
159
2.74
54.60
0.44
484,200
0.36
Subtotal
327
5.62
804
13.82
378.20
3.04
2,253,900
1.69
All manufacturing
631
10.85
1,369
23.54
1,512.50
12.14
14,226,000
10.64
a. Bureau of Economic Analysis’ “primary metals” category is split into ferrous and nonferrous metals.
b. Products in parentheses are included in this study.
Note: Standard International Trade Classification Codes of included products (version 2): Steel (672, 673, 674, 675, 676, 677, 678, 679), Chemicals (51111, 51112,
51113, 51122, 51123, 51124, 51211, 52218, 52323, 52213, 52251), Cement (6612), Aluminum (6841, 6842), and Paper (641, 642).
Sources: IEA (2007c); US Department of Commerce, Bureau of Economic Analysis, Industry Economic Accounts, 2007; US Department of Labor, Bureau of Labor
Statistics, Current Employment Statistics Survey, 2007.
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Ferrous metals (steel ingots, bars, rods,
plates, sheets, and tubes)
Chemicals (olefins, aromatics, inorganics,
and ammonia)
Nonmetal mineral products
(hydraulic cement)
Nonferrous metals (aluminum ingots,
bars, rods, plates, sheets, and tubes)
Paper and pulp (paper and paperboard,
cut and uncut)
Total emissions
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Sector b
Direct emissions
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Table 1.2
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and more efficient practices will be needed. Past experience in renewable
energy and efficient vehicle technologies has seen companies profit from
strong regulatory environments at home to build competitive advantage
abroad. Loose or uncertain policy structures will not serve US companies
well in the medium to long term, as other countries will build markets for
the products and services that will be required in a low-carbon world.
Such concerns have led many major US companies to call for strong
mandatory climate policy.4
In addition, policymakers should carefully weigh the cost of measures to
protect carbon-intensive industry for the economy as a whole. Certain policy options may shield domestic producers of goods like steel, aluminum,
and chemicals but do so at the expense of taxpayers, consumers, or downstream industries that rely on those goods and that compete internationally
as well. And building US competitiveness in the low-carbon energy technologies needed to stabilize the climate will require not only a clear domestic regulatory environment but also a significant amount of investment
in infrastructure, education, and research and development. The economic
and fiscal costs of protecting carbon-intensive manufacturing must be measured against these longer-term strategic goals.
Finally, while there are costs associated with US action to reduce carbon
emissions, there are also costs associated with inaction or delay. Estimating the financial costs associated with the impacts of climate change is
notoriously difficult, but the United Nations Framework Convention on
Climate Change (UNFCCC 2007a) calculates that the cost of adaptation
globally will run to tens of billions of US dollars per year by 2030. While
the poorest countries will disproportionately feel these impacts, the United
States will by no means be immune from significant damage (Ruth, Coelho,
and Karetnikov 2007).
Though we focus on leveling the playing field for carbon-intensive industries under various US climate policy scenarios, when possible, we assess legislative options in light of their broader costs and impact on overall US economic dynamism.
Options for US Policy Design
The design of US federal climate policy is still in the early stages. While
current proposals adopt a cap-and-trade system, there is also support for
a carbon tax (box 1.1). Good analysis of the relative strengths and weaknesses of both approaches abounds.5 This book remains agnostic as to
4. See, for instance, the US Climate Action Partnership’s Call to Action at www.us-cap.org.
5. For a good summary of the discussion on a cap-and-trade system versus carbon tax, see
Parry and Pizer (2007).
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which regulatory system should or will be adopted. We discuss policy options under both systems for dealing with industrial competitiveness and
emissions leakage concerns.
Broadly speaking, the principal policy options currently under consideration to level the international playing field for carbon-intensive industries can be divided into three types:
1. cost containment mechanisms: aim to reduce the pressure on carbonintensive industries by limiting the cost of complying with climate legislation, even if it undermines the stated environmental goal.
2. trade measures: do not limit costs on the covered companies but seek to
indirectly apply similar costs to competing companies in other countries through the treatment of traded goods at the border, so as to reduce competitive disadvantage for domestic companies and to incentivize international harmonization of standards.
3. coordinated international action: seek to reduce the pressure on domestic
carbon-intensive industries by encouraging major trading partners to
impose similar costs on their companies directly.
We discuss each of these options in the following chapters. Chapter 2
looks at the ability of cost containment mechanisms to protect various carbon-intensive manufacturing industries given differences in the energy
needs of each. Chapter 3 evaluates the effectiveness of trade measures in
doing the same, given the source of US imports and the carbon intensity
of US production compared with major trading partners. Chapter 4 addresses the role international agreements can play in leveling the carbon
playing field and the likelihood of reaching such agreements through
multilateral negotiations. Chapter 5 highlights key conclusions and offers
recommendations for US policymakers in light of the assessment made in
this book.
INTRODUCTION
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